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China Takes Shine Off iBasis

Light Reading
News Analysis
Light Reading
7/27/2005

The management at VOIP wholesaler iBasis Inc. (OTC: IBAS) has a lot to boast about at the moment, having seen increased revenues and reduced losses during the firm's second quarter, and having converted much of its debt into equity in the past five weeks (see iBasis Grows in Q2, iBasis Cuts Its Debt, and iBasis Cuts Debt).

On the carrier's second-quarter earnings conference call today, CEO Ofer Gneezy, noted that the recent debt conversion left the company with just $32.6 million in outstanding debt, less than the company has in cash and cash equivalents ($42.6 million). "That debt, which was once as high as $200 million, has been a significant burden on the business. This is the first time we have been in a positive net cash position," stated the CEO.

He also noted that revenues were up sequentially and from a year ago to $94.6 million, and that the net loss for the most recent quarter of $0.8 million, or 1 cent per share, included $1 million in charges associated with the debt conversion and foreign exchange losses. The numbers were very close to average analyst expectations of $95.6 million in revenues and an EPS of 1 cent.

Yet in late morning trading today, iBasis's share price was down by 33 cents, more than 10 percent, to $2.70. That dip will stick in Gneezy's craw, as he is keen to get the stock up to $4 so that iBasis can rejoin the Nasdaq Small Cap market. Topping the $5 mark would give the carrier the credentials to join the Nasdaq national market.

So what's the problem? It seems there are concerns about gross margins and the impact that VOIP traffic volumes from China can have on profitability.

In the second quarter, the gross margin figure was 13.4 percent. The carrier's wholesale business, which generated $77.7 million in revenues, recorded gross margins of 11.9 percent, while the retail business (calling cards and an e-commerce VOIP service called Pingo, for some reason) generated $16.9 million in revenues with a gross margin of 20.4 percent.

The wholesale business gross margin, which had been 13.7 percent in the previous quarter, was hit by a drop in wholesale VOIP traffic originating from China, which, according to Gneezy, is particularly profitable. And the CEO largely sidestepped analysts' questions about whether this China syndrome was likely to be just a blip, or whether this was a declining market for iBasis.

Analysts were also uncertain about the pricing strategy of the retail business. To improve margins, iBasis had increased its prices, but this resulted in a dip in retail revenues. As a result the company is now pushing calling cards at "more aggressive prices" that will bring the margins down again, Gneezy said.

The CEO seemed to sense the general margin concerns, noting that the company's average margin per minute of 0.7 cents was stable from the first quarter, and that iBasis currently has an opportunity to catch up and even overtake ITXC as the leading VOIP wholesaler, while that operator, which has just completed a post-acquisition integration process as part of Teleglobe International Holdings Ltd. (Nasdaq: TLGB), changed hands again (see VSNL Pays $239M for Teleglobe).

The CEO also highlighted further wholesale customer gains -- an additional 39 customers -- and cited the emergence of growing VOIP-over-broadband players such as Skype Technologies SA and Japan's Softbank BB Corp. as customers. "Profitability from these sorts of customers is good," he said. Qwest Communications International Inc. (NYSE: Q) was cited as the only 10 percent customer in the second quarter.

Gneezy also stated that, in the longer term as the retail business grows to become a more significant revenue contributor, gross margins would rise from the current level. He also gave full-year guidance of an increase in annual revenues of between 40 percent and 50 percent over 2004's $264 million, and said the company would be net income positive in 2005.

— Ray Le Maistre, International News Editor, Light Reading

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